Essay: Free Cash Flows and Value of Firms

Essay: Free Cash Flows and Value of Firms
April 11, 2011 Comments Off on Essay: Free Cash Flows and Value of Firms Academic Papers on Business Studies,Sample Academic Papers admin

Sample Essay

The real potential of a firm is not the amount of profit it can make but the amount of free cash flows it can generate over a period of time. The true value is reflected by the ability of a firm to generate these cash flows at a stable rate on a longer period of time. The total value of a firm can be obtained by discounting the free cash flows at the Weighted Average Cost of Capital of that firm.

This is one of the alternative methods of calculating a firm’s value and uses the free cash flows of a company where the free cash flows of the firm are discounted to the present value using the Weighted Average Cost of Capital as the discounting rate. The net present value obtained after the discounting process is a firm’s overall value and if this value is divided by the number of shares outstanding the value per share can also be calculated (Smart and Megginson 2008).

There are other valuation techniques based on the free cash flow model which use it in the calculation and estimation of a firm’s value. Fernandes (2007) described ten methods for valuing companies based on cash flows. This particular article explains the valuation of companies by discounting the cash flows at various rates such as Weighted Average Cost of Capital, required rate of return on equity, required rate of return on assets and other relevant rates. Though the value of the firm may vary slightly in all of these valuation techniques but the common factor for all these techniques remains the cash flow of a company (p. 853-876).

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